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Finding Prospective Buyers

Buyers come from a variety of sources and are found by a variety of methods. Some of the most effective methods of finding buyers and the pros and cons of each, are outlined below.

Your Employees

Most small business owners don't even want to discuss this option. First of all, letting employees know the business is for sale can have negative consequences. Key employees may get scared and leave or at least re-examine their level of commitment to the company. Second, radically altering the dynamics of employer-employee relationships tends to make business owners uncomfortable. While some employees can and do think of themselves as capable of running the firm, the boss generally does not.

However, some of the smoothest business sales that I have seen are those to employees. Employees, after all, are familiar with the company, its customers, suppliers, and its strengths and weaknesses. In some cases, your existing employees are already directly involved in management. The level of suspicion that buyers have (discussed in section VI.) will be a good deal lower when you are talking with employees who know the details of the firm.

Further, in some cases there are tax advantages to selling to employees. This advantage is through employee stock ownership plans (ESOPs). ESOPs are plans that permit employees to buy shares of a company under special terms. ESOPs are beyond the scope of this manual. As a general rule, they are for strong, profitable, growing firms that have sales of over $4,000,000. ESOPs are expensive to set up thus making them impractical for smaller firms. Ask your accountant, lawyer, or tax advisor whether an ESOP is worth considering in your particular situation. Since ESOPs are a specialized area, you may also want to consider consulting an attorney that specializes in ESOPS.

ESOPs set up a trust that buys stock and places some in each employee’s account, like a 401k. The plan usually buys a large amount of stock at inception, using a bank loan that is repaid by the business as it allocates money to the plan. The money paid to the owner for the stock is placed in long term (100 year) high quality, floating rate, ESOP bonds that secure the loan. As the loan is repaid the owner is able to sell the ESOP bonds that served as collateral.

Stock can be allocated to each employee based on compensation (just like a 401k) or based on years of service, or some combination of factors. Like a pension, the ESOP may vest immediately or over time.

There are rules that allow employees to diversify their holdings away from company stock as they near retirement (when they reach age 55) and to cash out when they are terminated, leave, become disabled, or die. Since cash may be needed to allow employees to diversify or to pay them for accumulated shares as they leave, ESOPs are easier in businesses with positive cash flows.

From an owner's perspective, ESOPs work best in companies where the employees can forgo wage increases or other benefits in exchange for the ESOP participation. Since the employees can put a limited amount of their compensation into the plan it can take many years for the owner to finish selling out in this scenario.

The company needs to be formally valued by an outside appraiser every year to determine the value of the stock that is being contributed to the employee accounts. There are also expenses to have lawyers review the plan annually (like any complex tax advantaged plan) and to have the plan administered.

By giving employees a substantial stake in the company an owner is often able to increase their commitment to the company and achieve better financial results over the long haul.

The potential benefits and drawbacks (for a non-publicly traded company) of an ESOP are summarized in the table below:

Benefit

Drawbacks

Tax Benefit to Owner

Cost of setting up the plan

No need to find an outside buyer

Cost of administering the plan

Possible increased productivity of workers

Length of time for owner to completely exit

Existing owner may share in business growth

Existing owner shares in business risk

Owner can maintain control over the company

Need to have sufficient cash flow to pay out workers that are retiring or leave for other reasons.

Potential labor cost savings

See appendix IV for sources of detailed information about ESOPs.

ESOP or no, employees are prospective buyers of companies that are too often overlooked or purposely shunned by business owners.

Competitors

Competitors are prospective buyers. They are familiar with the industry and the local marketplace. Additionally, when a business buys a competitor, it now has one less competitor to worry about. This can be an important reason to buy in an industry or locality where there are only a few competing firms. In general, it is easier to sell a business to another business rather than to an individual. An established business will probably have banking relationships and will have an understanding of what is needed to secure financing. Business owners are more realistic about what is involved in acquiring a company than are most people who have not owned a business.

For sound business reasons and for psychological reasons, business owners are often reluctant to approach competitors. The reluctance seems to be for two reasons:

1. Business owners don't want the competition to find out that their company is for sale. They reason, "Once they find out, the whole world will know, rumors will start, and there goes my business." While these fears are justified to some degree in some industries, they are usually not as harmful as the seller imagines.

2. Understandably, business owners, as most people, want to keep their financial affairs private. Further, for some reason that I don't understand, many business owners think that everyone else in the industry is doing much better financially than they are doing. If you are dissatisfied with your financial performance, showing a competitor your financials is showing him how poorly you are doing, a humiliating proposition.

Of course you don't want to volunteer private information on your business, like financials or the fact it is for sale, without receiving benefit for it. In this case there are quite possibly real benefits-- you might sell your business for an attractive price.

Using an intermediary here, such as a business broker, can add a level of protection against releasing information to people who are not seriously considering the purchase of your company. A broker can provide information to a prospective seller without revealing the name of the firm, at least in the initial stages. Further, most business brokers use confidentiality agreement forms that prospects are asked to sign. By signing these forms the prospect essentially agrees to keep the information confidential, and to use it only for evaluation purposes. Finally, a broker may already know of a competitor that is looking to purchase a company-- this is a nice shortcut to finding a serious buyer amongst the competition.

In approaching a competitor, there's no getting around the fact that you are entering an unpleasant situation and taking a risk. However, by not doing so you are risking the possibility of passing up a good sales opportunity. Try to evaluate the risk versus the benefit of releasing information. In some industries it doesn't matter how much a competitor knows about you; in others it is potentially more harmful.

Employees of Competitors

One of your competitor's employees may be interested in buying your company. The problem is that it is hard to find out who are the right employees to approach. There is no magic to finding competitor's employees. It is generally done by word of mouth, the old boy's network, local classified advertising, or trade press advertising. In other cases, some more aggressive buyers will contact business owners either directly or through a broker.

Same Type of Business In A Different Area

Because of the apprehensions about approaching a local competitor, some business owners would prefer to approach businesses like their own but in different areas. Businesses do look to expanding to different locales. It therefore makes sense to make inquiries in other locales. While it is more likely that a business based in a nearby locale would be interested, it is possible that one far away would be interested as well. In making such an approach, it might help to include positive information about the community, particularly as it relates to business. Such information is usually available from local Chambers of Commerce or state or city departments of economic development.

Related Businesses (Businesses With Synergies)

It is not unusual for one business to be sold to another business that is not a direct competitor but is in some ways similar. Sometimes it can get double benefit from buying your firm. Suppose, for example, that you own a mail order children's clothing company. A company selling children's books might be interested in your firm. Such a company could sell books to your customers and clothing to their existing customers. Taking the example further, either company might be interesting to a company that sells life insurance; parents of young children are the best prospective buyers of life insurance and financial planning products.

If you are going to use this approach to find prospects, it is up to you to clearly and concisely point out the synergies to the prospective buyer. While they may be clear to you, don't assume that the same will be clear to them until the advantages are carefully pointed out by you.

Investor, Venture Capitalists And Private Equity Groups

There are groups of investors (Private Equity Groups or PEGs) who are active in buying businesses. Typically, individuals will pool money and put one or a few people in charge of making an investment(s) on behalf of the group. PEGs are very good prospects for the right kind of business. Most typically, they are looking for a good size company-- well over $1,000,000 in sales-- that is profitable.

Venture capital firms are interested in less mature businesses that may not yet be profitable. In fact, some will fund a business plan. In return the VC will expect you to remain involved and put forth almost superhuman efforts. The VC money will go into growing the firm, not into your pocket. You retain a portion of the company and can do very well if the firm grows and the VC sells or takes the company public.

Some groups look for companies that can benefit from a synergistic relationship with another company that they already own. For example, suppose a private equity group has an investment in a highly automated electronic component manufacturing company that is not fully using its production capacity. That group might seek a small firm that manufacturers a related component, reasoning that the smaller firm can benefit from the larger firm's automatic production facilities, economies of scale, and distribution network.

Those companies that the PEG is willing to buy as stand alones are referred to as platform companies. The firms that they buy for the synergies with platforms are often called add-ons.

If you think that your firm might be attractive to a private equity group, it is probably best for you to talk with one or more of the following:

Attorneys (preferably at large firms)

CPAs (preferably at large firms)

Business brokers who deal in larger transactions

Investment Bankers

Also, some universities sponsor forums that are designed to introduce investors to opportunities, and vice-versa. The best known of these is the MIT Enterprise Forum at the Massachusetts Institute of Technology in Cambridge, Massachusetts. There are a number of affiliate MIT Enterprise Forums in cities throughout the US and beyond. For the address and phone number see appendix IV.

Because of the way venture groups operate, it is seldom fruitful to contact them directly. They prefer to work through intermediaries like those above or to find you. The best vehicle to have them find you is probably The Wall Street Journal (see below).

Classified Advertising

While classified advertising is a valuable means of finding prospects, it is, in my opinion, overrated and overused. Often people use it because it is the only medium with which they are familiar. There is no doubt that a classified ad in the right publication will generate calls. The problem is, most of the calls will not be from buyers. They may be from competitors seeking information, curiosity calls, individuals who are looking to buy but without access to the necessary money, or people trying to learn about the buy/sell process (at your expense).

Some sellers try to conceal the name of the business for sale, and cut down on non-serious inquiries by using post office boxes instead of street addresses or phone numbers. PO boxes are available at very low costs from local post offices. Also many newspapers offer a PO box response option for their classified advertisers, at a small additional charge. By using the PO box response, you receive letters from interested parties and then at your option contact them. If you get a response from someone who you don't want to talk to, you merely do not respond to that person.

Use of a PO box will cut down the number of non-serious responses and will conceal the fact that your firm is for sale. The main problem with PO boxes is that they also cut down on the number of serious responses. People are suspicious of PO boxes because they are sometimes used to see who responds even when no business is actually for sale. If you expect a lot of interest in your firm based on the salability of your kind of company, a PO box may be a good option to consider.

Below are different kinds of classified media to consider and the characteristics of each.

Trade Press

Most industries and professions are serviced by a variety of publications geared specifically to the concerns of that industry. A good number of these publications accept classified advertising. Such ads would, of course, be seen exclusively by those in your field. This may be just what you're looking for, though-- a buyer familiar with your industry. Scan the periodicals in your field to see which seem to be the strongest for this type of classified advertising.
Along these same lines, it might be a good idea to contact your trade or professional association. They might have a publication that accepts classified advertising, or they may have a similar vehicle for selling businesses.

Local Newspapers

This is the most popular source of classified advertising for selling businesses. Most papers call the business sales section Business Opportunities. This is a shotgun approach to finding buyers. An ad in business opportunities in a major paper will get responses. Sifting through the responses for a buyer will be a bit like finding the proverbial needle in a haystack. I like using the local classifieds as a sort of last resort if there is no other source of prospects. As last resorts go, it is not a bad one.

If your business is in a small or medium size community it is sometimes effective to put an ad in a nearby major metropolitan newspaper. The major newspaper will simply reach more people, oftentimes even people in your local community.

The Wall Street Journal

This is one of the premier business publications in the country. Even a small classified ad is almost guaranteed to get responses. While buying an ad in The Mart (that's what they call the section that contains the business opportunities section) for the whole US is expensive, the paper is broken down regionally and ads can be purchased on a regional basis at lower costs.

Most of those who respond to Wall Street Journal ads are sophisticated business managers, venture capitalists, or investor groups who require detailed information.

Expect detailed questions about financial performance and financial trends. I recommend this medium for larger small businesses that might be attractive to larger firms or to venture or investor groups. It is generally not for Mom and Pop operations that are highly localized.

Internet Advertising

There are several websites where you can list your business for sale on the Internet. The largest is http://www.BizBuySell.com that currently boasts over 50,000 businesses for sale. The site offers franchises, links to lenders, a directory of brokers, and lists of comparables.

A listing on this site often generates more responses than any other method of marketing a business. While listing your business on this website is something I would not skip because it is such an active marketplace, I have found that since it is so easy for a potential tire kicker to search and inquire about hundreds of businesses the proportion of unqualified buyers you get from this method is far higher than from any of the advertising methods listed above. If you work with a broker he will almost certainly list your business here and sift the resulting inquiries to separate the vast majority of unqualified buyers from the serious prospects.

A listing in the sites business broker directory, unfortunately, is not a guarantee of quality. The brokers included have paid BizBuySell for their brokerworks program.

The comparables provided on this site also need to be taken with a grain of salt, since they suffer from all of the issues mentioned in the problems with comparables section.

Another large site, with very similar features is BizQuest at http://www.BizQuest.com (as of this writing 42,000 listings).

Direct Mail

Sending mail directly to prospective purchasers is one of the most successful ways to find a buyer. You can purchase a list of business owners, target by industry, geography, and business size. A well-written letter can get a response rate of up to 10%, though the response rate is usually around 3-4%. We find that a letter that is individually addressed, hand stamped, on nice stationary, and signed with a pen generates a lot better response than one that is photocopied and begins with "Dear business owner". If you are not using a business broker you may want to rent a PO box for letters that are returned as undeliverable.

When purchasing your list, choose companies bigger 2-20 times your size. Smaller companies will probably not have the financial resources and larger ones won't want to spend the time on a deal that small.